Harrisburg Ex-Receiver Calls for Ban on Muni-Swap Deals

By Romy Varghese -
Nov 13, 2012

Pennsylvania should ban the use of
interest-rate swaps by municipalities and raise the bar for
issuing debt to avoid the type of fiscal calamity that besets
Harrisburg, the city’s former receiver told state lawmakers.

Taking both steps “would flush out any serious problem
situations and avoid the sort of irrational piling on of
inappropriate debt” as occurred in Harrisburg, David Unkovic,
who quit as the capital city’s receiver in March, said today. He
also recommended a criminal probe of Harrisburg’s bond deals.

Borrowers from California to Massachusetts and Italy have
paid at least $4 billion to banks to end such agreements after
the deals failed to protect them from changes in interest rates.
Philadelphia, the fifth-largest U.S. city, may lose more than
$570 million on swaps, Unkovic said, citing a January report. A
state ban on municipal swaps would be a first in the U.S., Peter Shapiro, managing director of Swap Financial Group LLC, said by
telephone before the Senate Local Government Committee hearing.

“Every aspect of daily life in Harrisburg -- water
service, sewer service, police protection, fire protection,
trash collection, economic development, parks and recreation --
has been negatively affected” by financing deals tied to a
municipal incinerator in the city, Unkovic, 58, said in prepared
testimony for the panel. He cited his experience as receiver.

‘Poisoned’ Community

Borrowing and interest-rate swaps connected with a trash-
burning power plant, which doesn’t produce enough revenue to pay
off more than $300 million in debt, “poisoned” Harrisburg’s
relationship with other state and local governments, with the
credit markets and even with suburban residents, Unkovic said.

Unkovic stepped down as Harrisburg’s first state-appointed
receiver March 30, two days after calling for state and federal
probes of the incinerator deals. William B. Lynch, his
successor, is implementing a recovery plan drawn up by Unkovic,
including the sale of assets such as the trash-fired generator.

“There is a small group of probably 25 to 50 people and
institutions who collectively caused this devastation, because
of what was done in the incinerator financings,” Unkovic said,
without naming any individuals or companies. “As a group, they
did this terrible thing.”

A forensic audit of the incinerator deals showed that laws
ensuring that the debt taken on to finance the plant would be
repaid from its revenue “were stretched or twisted or distorted
or ignored or violated,” Unkovic said. He recommended
tightening disclosure rules covering municipal borrowing and
increasing state oversight.

New Penalties

A lawyer specializing in municipal finance for more than 30
years, Unkovic also urged lawmakers to name a special prosecutor
to examine the incinerator transactions. He recommended creating
new criminal penalties for public officials and legal and
financial professionals who knowingly falsify information tied
to such deals.

If municipalities aren’t banned from using interest-rate
swaps, “there will be more multimillion dollar fiascos”
similar to Harrisburg, Unkovic said. He joined Pennsylvania
Auditor General Jack Wagner, who in 2009 recommended banning
local governments from using the deals, in which two parties
trade payment obligations to hedge against changes in rates.

No state explicitly bans cities and towns from entering
into swaps, said Shapiro, who also testified at the hearing. He
said there are states, such as New Jersey, that limit
contracting powers of municipalities, which effectively bar them
from the deals.

To help Harrisburg’s negotiations with creditors, Unkovic
said the Legislature shouldn’t extend a measure preventing the
city from entering bankruptcy protection. The ban, which has
been extended once, will automatically expire Nov. 30.